How much do you take potential antitrust concerns into account when evaluating investments or mergers and acquisitions? Has this changed over time?
Antitrust is a big part of M&A and the work I do in analyzing deals at Rangeley Capital. It has always been important, but the importance has grown with this administration’s activist approach. Across Republican and Democratic administrations, it had a largely economic basis. But the current Federal Trade Commission (FTC) and U.S. Justice Department (DOJ) have made it more partisan and political.
For example, a few years ago, we were significant investors in a company called Spectrum Brands (SPB). They had a definitive deal to sell their hardware and home-improvements business to Assa Abloy. The DOJ sued over their overlap in “premium mechanical door hardware and smart locks”—a market definition that they tortured in order to bring their suit. Lots of companies can make locks. Barriers to entry are surmountable. These are mostly high-end decorative locks that some customers choose to spend more money on.
It may have been a weak suit and an odd priority, but what really struck me was that the DOJ wouldn’t take yes for an answer. The companies immediately offered to engage and to fix 100% of the purported concerns. The DOJ didn’t want to fix what they said was the matter; they wanted to fight it out in court. The judge came close to asking why we were even there after the comprehensive divestiture to a credible buyer was offered up.
The DOJ saw the writing on the wall and eventually accepted the settlement, but the whole thing smacked of a show trial. It presaged a series of similar suits in which the government seemed utterly incurious about pursuing market solutions to the problems that they identified. They aren’t seeking solutions; they’re picking fights.
Do you see stronger antitrust enforcement as a positive, negative, or neutral for financial markets and economic growth? Why? Does your answer depend on whether you are thinking about your position compared to markets overall?
Negative, both from my position and compared to markets overall. Financial markets and economic growth are strongest when participants know the rules. Today, antitrust reviews delay and sometimes stop deals, but they also throw dealmaking into uncertainty. Companies often can’t respond to competition with M&A in a relevant timeframe because the prospects of successful timely completion are too uncertain. Activist antitrust makes markets less competitive.
What impacts, if any, do you think the targets of antitrust enforcement have had on competition and innovation in the industries you work in? How have they enhanced or blocked innovation?
As the agencies try to use the antitrust laws for a broader set of goals, they have diluted the focus on consumers and on price competition. The concentrated airline industry will be less competitive and innovative without JetBlue’s acquisition of Spirit, which would have created a stronger maverick that would have benefited consumers on both price and innovation. Blocking Kroger’s acquisition of Albertsons—an industry that already has thin margins—won’t do much for customers, but will protect Walmart. The agencies see a given business model at a single point in time and essentially sanctify it. They want to lock in that stage in a market structure, instead of understanding that these markets are dynamic.
Why do companies you follow closely tend to merge or acquire other companies, rather than rely on internal growth?
M&A allows companies to get to an efficient scale faster. Two examples that I focus on are banks and pharma. The United States has thousands of community banks, many of which are subscale without clear paths to grow. They have deposits and branch networks that could be valuable to strategic buyers who could take out redundant costs. Most of these should be part of bigger, more efficient organizations, either credit unions or larger banks, and acquisitions can get their costs down most effectively.
In pharma, pre-revenue research companies raise money to develop products. But if they succeed, the task of commercializing is pretty different. It is expensive and requires scale. In almost every case, it would be wasteful to hire a sales force, instead of tucking it into an existing commercial pharma company. Many small research pharma companies fail; the prospects of lucrative buyouts when they succeed is what allows new startups to get financed.
Have you seen, or do you expect to see, antitrust actions that create new opportunities for other companies?
Yes, the most interesting opportunities for other companies that I see in antitrust actions are in divestiture packages. When a deal requires an antitrust fix, the merging companies are often primarily focused on closing their deal. This can make them insensitive on the price that they get for divested assets—sometimes almost giving them away. Their merger agreements often require divestitures, giving a divestiture buyer a strong negotiating position.
One recent example was the Intercontinental Exchange’s acquisition of Black Knight. They overcame antitrust concerns and were able to close their deal, but only after divesting their Optimal Blue business and Empower loan-origination system (LOS) business to Constellation Software for a song. It is hard to get a great price when you’re under a time crunch and the deal’s urgency allowed Constellation to dictate terms.
Do you think current laws are adequate for dealing with market power? Why or why not?
Yes, current laws are adequate for dealing with market power. If anything, there are a lot of rules that could be removed to make markets more competitive. Specific regulated industries have particularly anticompetitive rules.
For example, it is time consuming and difficult to get Federal Reserve approval to buy 10% or more of a bank. It is an archaic rule with no real modern justification, but it is still enforced. For small banks, this makes smallness a strong corporate defense. If you can’t buy more than 9.99%, then it is harder to make enough money from a successful investment to launch a proxy battle. So bad management can safely ignore shareholders to an extent that would be impossible without arbitrary regulations. This stagnates market shares, keeping the big banks big without as much encroachment from growing market entrants.
Have companies avoided deals due to antitrust risk? Have they avoided deals even if they believed they would win?
Yes, absolutely. Antitrust risk is a growing topic in boardrooms. Even completely legal deals are skipped over. Boards and managements have to contend with mean tweets from Liz Warren, or punitive actions over concerns traditionally outside the scope of antitrust reviews. It is particularly telling that the agencies appear to have almost no engagement with companies on fixing their purported concerns. It is becoming an entirely adversarial process, where merging companies are perceived as enemies to be cowed, defeated, or besieged with enough delay to lead them to capitulate.
